Monday, May 9, 2011

Bruce Berkowitz & AIG:I told him he should hedge his positions (MBI & JOE also); why didn't he listen ?

Over the weekend, I was thinking about writing a little piece here about a very smart and well regarded fund manager, Bruce Berkowitz, who runs the Fairholme Funds.

During 2010, Mr. Berkowitz had taken concentrated positions in several controversial stocks, notably AIG, JOE (St. Joe Corp), MBI (MBIA) and others. In my view, all of these companies were train wrecks, and I had on occasion played them to the short side.

News of Berkowitz' investments, along with his discussion of them in various media appearances, helped to rocket the stocks higher. In AIG's case, the stock went from around $30 to over $60. JOE went from around $18 to over $30, and Berkowitz faced off with David Einhorn, who had a well publicized short position in the stock.

Coincidentally, with AIG now $29 / share (again, down from $60 3 months ago), I noticed this on Twitter tonight.

Bruce Berkowitz Says He Was Wrong About AIG

Yes he was wrong. Big time. Many Twitter and StockTwits traders & momentum chasers didn't believe me when I told them that these stocks were train wrecks, basing their views simply on chart patterns and Berkowitz' bullishness.

But I am writing this piece not to crow about being right.

What troubled me about Berkowitz' positions was not that he was long; it was that he did not protect himself through cheap hedging techniques from being wrong.

I don't know Berkowitz personally, although I did get to meet him briefly earlier this year at an investment conference in New York that he spoke at. He has a great track record, he is smart, and he seems like a likeable, honest, no BS kind of guy.

But he doesn't hedge.

How do I know this ? I asked him.

While I was confounded as to why he would take huge positions in stocks like AIG and MBI that were not only train wrecks, but black boxes that are almost impossible to understand, I didn't challenge him about that.

I just wanted to know if he hedged his positions, as I thought that he should protect himself and his fund. AIG for example, was going to be faced with the US government trying to sell its ginormous stake, representing 92% ownership of the company. That's a lot of selling pressure that hadn't even begun, and everyone knew about it.

Berkowitz should have sold down his stake during the run up, or at least hedged.

He told me that his positions were too large to hedge, and that is why he did not.

I thought that was ridiculous, but I didn't say so to him. I mentioned that I could show him how to hedge these stakes effectively and cheaply with options, but he didn't take me up on my offer, and I didn't push it.

I don't get how most long only investors that either can't, don't or won't hedge. Its nonsense and irresponsible in my opinion.

Anyway, I wish Bruce Berkowitz well, I had been meaning to touch on this subject.

Here are some charts of AIG, MBI and JOE ... the conference took place in late January or early February ... see what's transpired.




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